What are payday loans?
When you take out a payday loan, it’s crucial to pay the loan back by your next payday.
Written by
Writer, Fox Money
Jacqueline DeMarco has more than seven years of experience in finance, with bylines featured at Bankrate, USA TODAY Blueprint, AOL, and the New York Post.
Updated September 26, 2024, 12:20 PM EDT
Written by
Senior editor, Fox Money
Meredith Mangan is a senior editor at Fox Money and expert on personal loans.
Fox Money is a personal finance hub featuring content generated by Credible Operations, Inc. (Credible), which is majority-owned indirectly by Fox Corporation. The Fox Money content is created and reviewed independent of Fox News Media. Credible is solely responsible for this content and the services it provides.
Household debt has risen by $184 billion since the start of 2024 and delinquency rates have increased across all debt types, according to the Federal Reserve. If you're struggling with debt, having a quick fix to bridge the gap between paychecks may seem like a reasonable option. But with one in five borrowers defaulting on payday loans, you may be better off with an alternative like a personal loan.
Most payday loans have ultra-high annual percentage rates (APRs) that can make them hard to repay and lead to a rapidly growing loan balance. We'll take a closer look at how payday loans work, what you need to look out for, and alternatives.
What is a payday loan?
Payday loans are short-term, high cost loans for small amounts - generally $500 or less - that are due on your next payday. They're known as "payday" loans because they are usually repaid in a single payment on your next paycheck, or within 10 to 14 days of borrowing. Payday loans are a type of loan that doesn't require a credit check and you generally only need to provide proof of income for approval, making them a popular option if you have poor credit (a FICO score below 580).
Good to know
Payday loans typically carry high costs with average APRs over 600% in some states, making them one of the most expensive forms of credit available.
How do payday loans work?
After applying for a payday loan, funds may be deposited into the same bank account where you receive your paycheck, received as a check, loaded on a debit card, or picked up as cash. Funding is typically instant or same-day.
Payday lenders don't charge a traditional interest rate, and there are no monthly payments. Instead, you provide the lender a postdated check or other access to your checking account. When the loan is due - typically by your next payday - the lender will deduct it from your account. This can be surprising if you are accustomed to making minimum payments on credit cards or spreading payments over several years, like with auto or personal loans.
But in some states, it is legal for lenders to "renew" or "roll over" a loan if you can't afford to make the full payment. However, this can come with very high fees that can lead to a cycle of hard-to-escape debt.
How much do payday loans cost?
Payday loans are regulated at both federal and state levels. However, many states have laws that limit the fees or interest rates payday lenders can charge, and some states have banned payday loans altogether.
Fees typically range from $10 to $30 for every $100 borrowed, according to the Consumer Financial Protection Bureau (CFPB). But it's helpful to convert fees into an APR in order to see how they compare to more traditional forms of lending - you can do this with a payday loan calculator.
For example, if you obtain a two-week payday loan with a $15 per $100 fee, your total debt owed would be $115 with an APR of 391.07%. This is much higher than even the highest APRs on traditional personal loans (around 36%) and credit cards (under 40%).
Compared to payday loans that reach three-digit APRs, a credit card or personal loan for bad credit may be a better alternative for your needs.
Warning
Payday loans may be a riskier option if you are unable to repay the loan in full on the due date as the lender may add a fee to extend the due date. If this cycle repeats, you could end up owing more in interest than your original loan amount.
Payday loan rates by state
Payday Loan Cost by State
Pros and cons of payday loans
Pros
- Quick access to cash
- Minimal eligibility requirements
- No credit check
Cons
- High APRs
- Short repayment period
- Risk of debt cycle
- Limited loan amounts
Pros
- Quick access to cash: Payday loans generally have fast approval and funding, often within the same day.
- Minimal eligibility requirements: You usually only need proof of income, a bank account, and identification, making these loans more accessible if you have poor or no credit.
- No credit check: Payday lenders may not conduct credit checks, so your credit score won't be impacted (or considered) in the application process.
Cons
- High APRs: The APR on payday loans is extremely high, often equating to at least 100% or much more, making them a very expensive form of credit.
- Short repayment period: You are usually required to repay the loan in full by your next payday, typically within two weeks, which can be difficult to manage.
- Risk of debt cycle: Due to the high costs and short repayment period, you may end up taking out new loans to repay old ones, leading to a cycle of debt.
- Limited loan amounts: Payday loans are usually for small amounts, around $500 or less, which may not be sufficient to cover larger financial needs.
Payday loan alternatives
If possible, don't get a payday loan. Get something else. In many cases, you may be able to find more affordable forms of borrowing to turn to in a pinch.
- Personal loans: You can use a personal loan to cover virtually any expense, and they come with much lower interest rates (up to 36%) and longer repayment terms (around 2-7 years) that can result in smaller, more manageable monthly payments, even if you have bad credit.
- Credit cards: The average interest rate for a credit card is 21.59%, according to the Federal Reserve, which is significantly lower than a three-digit APR for payday loans.
- Payday alternative loan (PAL): A PAL is a type of loan offered by certain federal credit unions. They are available up to $2,000 with repayment terms to 12 months. Interest rates are capped at 28%, making PALs a much more affordable option compared to traditional payday loans. Some types of PALs are immediately available after joining a credit union.
- Family or friends: If you can borrow money from a friend or family member, this can be a free or low-cost way to avoid a payday loan. Just be careful whenever borrowing money from friends or family. Set clear repayment terms, in writing, to avoid causing tension or resentment in the relationship.
- Credit counseling: If your income isn't enough to pay your expenses, look for a nonprofit credit counseling organization to better understand your options. For example, a credit counselor may suggest a debt management program to help you manage other existing debts or negotiate lower rates. You can reach out to 211.org for more information.
- Government assistance: If you're struggling to make ends meet, you may qualify for assistance paying for food, utilities, housing, and more. Visit USA.gov's benefits portal to see what you qualify for.